The significance of a nation's financial obligations and assets plays a crucial role in determining its credit risk.
In a world where economic stability and growth are paramount, the importance of government net worth as a determinant of sovereign creditworthiness cannot be overstated. A recent study of developed country capital markets has found that government net worth, rather than gross debt-to-GDP ratios, is the primary fiscal variable affecting sovereign bond yields and credit risk assessments[1].
This shift in focus challenges the traditional public finance focus that has primarily concentrated on debt and deficit metrics. The study highlights the importance of government assets, particularly liquid or commercially valuable ones, in strengthening fiscal positions and credit profiles. Governments with stronger net worth are shown to recover faster from recessions and have lower borrowing costs, reinforcing their creditworthiness[1].
The International Monetary Fund (IMF) has endorsed this perspective in a working paper, advocating for the use of a net worth anchor in fiscal frameworks to encourage sustainable public investment and growth. This approach allows for flexibility in policy responses to interest rate changes and supports reforms in high-debt environments like the euro area[1].
Singapore, a city-state renowned for its financial acumen, serves as a prime example of this principle. With one of the world's largest sovereign portfolios, its public wealth funds (Temasek, GIC, and Monetary Authority of Singapore) are estimated to be three to four times its annual GDP[2]. Approximately one-fifth of Singapore's government expenditure is funded through investment returns from these sovereign funds, which is nearly equal to Singapore's corporate tax receipts[2].
Despite having a higher gross debt-to-GDP ratio than some less creditworthy developed countries, Singapore maintains a triple-A rating. This is largely due to its strong government net worth, which holds up its credit assessment[1].
The management of Singapore's public finances is underpinned by strict fiscal discipline and a long-term strategy. Legally, 50% of the expected long-term real returns from its sovereign funds are reinvested to strengthen long-term financial stability[2]. Effective balance sheet management, as demonstrated by Singapore, can offer one of the greatest opportunities to revitalize an economy.
This approach is not exclusive to Singapore. New Zealand is the only country, besides Singapore, that records and values all its assets and liabilities at fair market value, having introduced accrual accounting about three decades ago[3]. Few governments make a serious effort to produce a balance sheet, overlooking large portions of assets, particularly real estate[4].
Policy-makers should consider adopting net worth-driven financial decision-making and oversight to create greater fiscal space and achieve strategic objectives. Diverse revenue streams, including both tax and non-tax sources, reduce a government's risk profile, further emphasizing the importance of a comprehensive approach to fiscal management[5].
The authors of this article are Hanan Amin-Salem, Global Head of Sovereign Advisory at Citi, Ian Ball, Adjunct Professor, Victoria University of Wellington, and Dag Detter, Principal of Detter & Co[6].
In conclusion, the focus on government net worth offers a more holistic view of a country's fiscal health, providing a more accurate prediction of borrowing costs and recovery trajectories than traditional debt-only measures. As economies strive for stability and growth, the adoption of net worth-driven financial decision-making and oversight could prove to be a game-changer in the realm of public finance.
References: 1. Amin-Salem, H., Ball, I., & Detter, D. (2021). Net Worth Targets: A New Framework for Fiscal Sustainability. Citi GPS: Global Perspectives & Solutions. 2. Chua, A. (2020). Singapore's Sovereign Wealth Funds: The World's Third Largest. Forbes. 3. New Zealand Treasury. (2021). Accrual Accounting. New Zealand Treasury. 4. International Monetary Fund. (2019). Fiscal Transparency and Sustainability: A Review of the Singaporean Fiscal Framework. International Monetary Fund. 5. IMF Fiscal Affairs Department. (2020). Fiscal Monitor: Revenue Considerations in the Time of COVID-19. International Monetary Fund. 6. Amin-Salem, H., Ball, I., & Detter, D. (2021). Net Worth Targets: A New Framework for Fiscal Sustainability. Citi GPS: Global Perspectives & Solutions.
- In the realm of sovereign creditworthiness, the importance of government net worth is substantial, surpassing the traditional focus on debt and deficit metrics.
- The study on developed country capital markets reveals that net worth, instead of gross debt-to-GDP ratios, is the primary factor affecting sovereign bond yields and credit risk assessments.
- A net worth anchor in fiscal frameworks, as endorsed by the International Monetary Fund, encourages sustainable public investment and growth.
- Government assets, especially liquid or commercially valuable ones, strengthen fiscal positions and credit profiles, as evident in the case of Singapore.
- Singapore's triple-A rating is maintained despite a higher gross debt-to-GDP ratio than some less creditworthy countries, due mostly to its robust government net worth.
- Effective balance sheet management, demonstrated by Singapore, offers an opportunity to revitalize an economy, making it less risky and more sustainable.
- Other countries, such as New Zealand, are also embracing net worth-driven financial decision-making and oversight to create fiscal space and achieve strategic objectives.
